The paper examines the predictability of a currency-peg collapse on the basis of the
movements of underlying fundamentals and the observed behaviour of currency
markets. Our findings suggest that the ultimate collapse of a peg is predictable if the
peg is inconsistent with valid long-run macroeconomic relationships. A strong
currency policy is confirmed to be helpful in terms of reducing inflation but its
prolonged implementation reduces the peg’s credibility. In the case-study examined,
markets appear to have anticipated the peg’s collapse almost a year before it occurred.
However, the results show that the exact timing of the devaluation took markets by
surprise. Even under conditions of devaluation expectations, central banks have the
capacity to surprise the markets.